There is one thing worrying me about the economy these days. It’s not the fact that China is having problems taking a second breath between economic sprints. It’s not Europe and their big fat debt they keep feeding like an overweight cat. Nope, what bothers me about the economy right now is the possibility of seeing all these wallets closing at the same time.

The only thing that can kill an economy in a capitalist world is a lack of liquidity. Cash is like blood going through your veins, if the heart stops pumping, the whole body collapses. If the Fed stops pumping money into the system, will the economy crash?

You don’t know what I’m talking about? Here’s a recap of what is going on…

Fiscal Cliff, Debt Ceiling and the FED

2013 will be a year of great debate between the Republicans and the Democrats. They will have to argue on how to completely solve the fiscal cliff. If they can’t find a solution, major spending cuts doubled with tax increases will hit the economy like a train. That’s a recession scenario right there.

The other great debate is the debt ceiling. Over past decades, Governments have increased the US debt ceiling (the amount of debt the country is allowed to borrow) several times. The latest episode happened in 2011. Still, we are now back at the table to discuss the same issue. The first meetings happened at the end of February. If no long term solutions happen, there will be another series of spending cuts to make sure the US Gov doesn’t break the ceiling again.

On their side, the FED continues to print money like there is no tomorrow. They are injecting billions, read trillions, into the economy with bond buyback programs called quantitative easing. Wall Street is reassured each time Ben opens his mouth to say that interest rates will stay low and the FED will keep pumping money into the market. The big bulls of Wall Street only want to hear that more money is coming in, they don’t really care if it’s good or bad for the Government.

The Government Is Not The Only One To Put The Brakes on Spending

The Government is not the only one putting the brakes on spending. On both sides of the border, we see consumers slowing down with their credit cards. Americans have started to save money since 2009 and their financial situations are getting better. However, this doesn’t mean they will open their wallet again. Since the American consumer counts for 70% of the US GDP, we absolutely need his enthusiasm for the economy to continue rolling.

In Canada, we don’t have Government debt problems yet but we surely have a huge issue with consumers. They are so under water that they don’t even see the earth where they can land. Sooner or later, they will have to slowdown with their credit cards. They will either do it because they realize they are in trouble or they will be forced to do it when the cashier returns their card saying the transaction is refused. In both cases, this will hurt the economy.

Recession, Stagnation, Where to Find Growth?

When I look at global markets, I have a strong feeling that economic growth will be pretty close to the stagnation level. I think we will avoid talking about the R word but won’t be ecstatic about the markets either.

Nonetheless, the stock market is not related to the Government’s balance sheet nor the typical consumer bank account. This means that we will still have a great year in the markets and the first two months have proven it.

If you have energy, cyclical stocks and “pure growth oriented” stocks in your portfolio, chances are that they will lag a little bit in 2013. Spending cuts will affect cyclical markets (especially if they increase taxes!). I would probably stay away from weapons and defence industries since the bulk of the cuts will happen in the military budget. They had great years in the 2000s, but I think the party will end soon for those companies.

My bet would be on cash and stable businesses. I recently wrote a piece about the food sector (click here to read it) showing how well it has done since the beginning of the year. I think that companies with strong dividend policies and low dividend payout ratios will be among the most popular stocks.

Investors are looking for steady income and bonds are not providing what they are looking for. As long as we see a stagnated economy, interest rates won’t go up. Therefore, the next item on the list for steady income is dividend stocks. I currently don’t believe in a dividend bubble since stocks are undervalued. But 2013 could probably be the year when the bubble will start growing faster.

What do you think? Do you think the economy will get back on track this year? What about your portfolio, do you think that dividend stocks will be among the big winners for 2013?